Technology start-up companies in Silicon Valley exist in a highly dynamic environment, where survival can be crushed by competition from a kid in a garage or a fund partner refusing further investment. As a last gasp, some companies may try to be acquired. Companies which have had to take refuge from their creditors may be able to sell their business through bankruptcy proceedings.
When compared to a standard sale of a business, sales of financially troubled companies require the professional advisors to manage a number of different stakeholders to successfully close a transaction. More so than in standard transactions, professional advisors play an important role in helping a transaction proceed smoothly. Under certain circumstances, their fees may be paid by the buyer or the bankrupt estate.
Most acquisitions of financially troubled companies are structured as an asset purchase. This prevents the acquirer from having to automatically assume liabilities that it doesn't want. The existing creditors are then left with satisfying their claims out of the proceeds from the sale. Most companies, however, need the products or services of its creditor vendors to survive. In the case of technology companies, these vendors often include technology and hardware suppliers who are core to the company's business. Irritated suppliers may not want to deal with the company even after its acquisition. Creditors and stockholders of the company may have claims against the company's board of directors if a company is sold for less than the reasonably equivalent value of its assets. At the same time, key employees of the company, aware of the company's financial stress, may be looking for alternate opportunities. The importance of these stakeholders, and how they are managed as part of the acquisition, is at the heart of any purchase of a financially troubled company.
The first task of any potential buyer is to perform extensive due diligence to determine what employees and suppliers are necessary to the company post-closing, and whether the company's operations can be streamlined sufficiently to enable it to become viable. For the seller, the key task is to maintain those relationships of most value to the company. This may require creating cash retention bonuses for key employees.
The second task is to document a letter of intent and definitive agreement rapidly so that the company remains viable. Preliminary negotiations can be challenging, because, among other things, the buyer will need access to the seller's vendors to determine if payment accommodations can be made. In exchange for the time the buyer requires for vendor discussions, the seller may insist that the buyer funds the company's operations, particularly its payroll, until closing.
The third task is to close the transaction quickly so that valuable employees and vendor relationships are not lost. This can be difficult given that contracts for many of the seller's key relationships will need to be assigned, and the consent of the other contracting party may be required.
In my next blog, I'll discuss how the bankruptcy process is used in acquiring a financially troubled company.